Global Supply Chain Affects Commercial Real Estate

To understand the world’s supply chain woes, consider sneakers. In September 2021, Nike reported that the time it takes to ship a pair of sneakers from Asia to the United States has doubled from 40 to 80 days. Shipping costs, meanwhile, have more than quadrupled in the past year, according to global digital shipping Group, Freightos.

Port and rail congestion, labor and material shortages, and container scarcity are among the many factors driving the supply chain disruption that impacts Nike and countless other companies of all sizes. At Bloomberg-Quint, analytics found that problems are further complicated by rising consumer demand. Over the first six months of 2021, retail sales, excluding food service, rose 22% compared to the same period in 2020. Demand continues to outpace supply for many goods, a trend many expect will continue for the foreseeable future.

Today’s focus on repairing broken links and restoring the reliability of the global supply chain has potential long-term implications for the commercial real estate market. Among them:

1. Renewed Focus on Supply Chain Resiliency

The lean manufacturing and just-in-time (JIT) inventory strategies implemented in recent decades helped many companies reduce costs and eliminate waste, helping to free up cash flow for other parts of the business.

But as the past two years have revealed, JIT and lean approaches have downsides. A delay in the shipment of a single component can shut down production, triggering shipping delays, missed delivery dates and product shortages. Likewise, current systems are often ill-equipped to respond quickly when demand spikes. In other words, the pandemic helped expose vulnerabilities and exacerbate weaknesses that plagued supply chains long before the first coronavirus infection.

To address these problems, some companies are now seeking ways to make their supply chains more dependable and resilient.

2. Rising Demand for Warehouse Space

Companies that produce or receive products at the precise time they are needed have less inventory to manage. That translates into less need for warehouse space. But when the goal is to build supply chain resiliency, the calculus changes. In many cases, it means adding warehouse space where surplus goods can be maintained “just in case” of disruptions like the one we are now experiencing.

That is already happening in the U.S., where warehouse leasing volume increased by 52% through July, compared to the same period in 2020, according to a new report from CBRE, a commercial real estate services and investment firm. In fact, the national warehouse vacancy rate is down to 4%, while first-year rental rates are up 10%.

Strong leasing activity is also driven, in part, by the spike in shipping and other transportation-related costs, including port backlogs and higher fuel prices. In some cases, companies have increased their U.S. warehouse space to reduce the need for frequent shipping orders. CBRE reports that transportation costs consume 50% to 70% of U.S. companies’ logistics budgets. By comparison, real estate, and other fixed facility costs account for only 3% to 6% of those budgets. Companies would rather pay higher rent if it means lower transportation costs.

The question is, what level of rent increase is the market willing to bear? Rising demand has contributed to higher warehouse construction costs, which can impact both lease rates and the economic equation for new development. Both can further impact warehouse space supply and demand.

3. Increased Interest in “Last-Mile” Locations

Retailers have two kinds of transportation costs to consider when designing a distribution network. First, are the inbound costs associated with transporting goods to them. Second, are the outbound costs to deliver those goods to customers.

The challenge is to find locations that optimize both types of costs.

Motivated by retail considerations, some retailers are choosing to expand their distribution facilities beyond traditional hubs in Southern California, Dallas-Fort Worth, New Jersey, and Chicago to include satellite distribution facilities close to major regional population centers, including Kansas City, St. Louis, and Nashville.

While these additional facilities add some expense, it can typically be offset by reducing “last-mile” transportation costs. Products transported to the warehouse by semi-tractor trailers can be delivered to stores and customers via box trucks and commercial vans.

Among the factors considered in choosing metropolitan sites for these satellite distribution centers is whether they can house these urban truck fleets.

4. Changing Distribution Center Design and Layout

The need for both small truck and semi-tractor trailer parking, staging, and loading is not the only design change at some new warehouse and distribution facilities. For example, facility designs may also need to accommodate the growing use of driverless vehicles, automated processes, and smart technologies that improve operational efficiency. Sophisticated warehouse conveyor and management systems, likewise, will increasingly be used to track stock movement in real time.

As use of these technologies increases, so will the power requirements for the facilities that house them. Increased energy demand may be offset, at least in part, by the reduced lighting and special climate control needs for facilities designed more for machines than large human workforces.

To pack all these technologies into a structure — some of which may be converted manufacturing facilities — real estate developers and their clients may choose to look upward. Given higher urban real estate prices, distribution centers are growing taller. Some have 40-foot clear ceiling heights, or higher.

5. Future-Proofing Construction

Technological innovation is ongoing. However, many of the advances are fragmented into different operational silos. A clear picture of how physical and digital infrastructure might eventually become integrated across the supply chain has not yet emerged.

The fact that shipping technologies and trends evolve differently around the world further complicates matters. If an innovation is to succeed, it must be available and embraced virtually everywhere.

Many efforts to implement changes in containerized trade, for example, have failed because solutions that work in one in one economy do not necessarily succeed in another. It could be years before practical solutions are adapted universally.

These realities have multiple implications for the commercial real estate industry. They suggest that the industry should double-down on its commitment to flexible, adaptable designs that can accommodate changing needs. By providing the “blank canvases” companies need to future-proof their occupancy, developers have a long history of pragmatism. They know change happens over time, with every link in the supply chain moving at its own pace.

The Bottom Line.

The supply chain disruption fueled by the pandemic will take months to resolve fully. In the meantime, commercial real estate companies may see rising demand for spaces that address the changing warehousing and distribution landscape. Longer term, they must prepare for the technological revolution that has already begun. Contact a Commercial Real Estate specialist at Commerce Bank to find out how to get your company’s space ready for tomorrow’s challenges.

Commerce Bank, a subsidiary of Commerce Bancshares, Inc. (NASDAQ: CBSH), leverages more than 150 years of proven strength and experience to help individuals and businesses solve financial challenges. Visit us at Commerce Bank – Built for Business to learn more.